Best of the Week
Most Popular
1. Crude Oil and Water: How Climate Change is Threatening our Two Most Precious Commodities - Richard_Mills
2.The Potential $54 Trillion Cost Of The Fed's Planned Interest Rate Increases - Dan_Amerman
3.Best Cash ISA Savings for Rising UK Interest Rates and High Inflation - March 2018 - Nadeem_Walayat
4.Fed Interest Hikes, US Dollar, and Gold - Zeal_LLC
5.What Happens Next after February’s Stock Market Selloff - Troy_Bombardia
6.The 'Beast from the East' UK Extreme Snow Weather - Sheffield Day 2 - N_Walayat
7.Currencies Will Be ‘Flushed Down the Toilet’ Triggering a ‘Mad Rush into Gold’ - MoneyMetals
8.Significant Decline In Stocks On The Cards! -Enda_Glynn
9.Land Rover Discovery Sport Extreme Driving "Beast from the East" Snow Weather Test - N_Walayat
10.SILVER Large Specualtors Net Short Position 15 Year Anniversary - Clive_Maund
Last 7 days
Watch This Group Signal Stock Market Trend Changes - 22nd Mar 18
Stocks are Gapping Beneath the Trendline Support - 22nd Mar 18
Fed Action Casts Shadow on Bullish Case for Stocks - 22nd Mar 18
A Strong Economy and Weak Stock Market is Bullish for Stocks - 22nd Mar 18
Fed Raises US Interest Rates 25bp – Where Are We In The Stock Market Cycle? - 22nd Mar 18
Why Spotify Will Likely Surge During Its IPO - 22nd Mar 18
SY Police Arrest Woman for Blowing Trumpet at Sheffield Tree Felling Protest - 22nd Mar 18
Facebook: The Anti-Social Network Covert Data Gathering - 21st Mar 18
Additional Signs for Gold and Silver Amid Increasing FOMC Tension - 21st Mar 18
Credit Concerns In U.S. Growing As LIBOR OIS Surges to 2009 High - 21st Mar 18
Stock Markets Are Flat-to-lower Before the FOMC - 21st Mar 18
Will Powell’s Actions Pop Stock Market Perfection - 21st Mar 18
Economic Moral Hazards of the International Criminal Court - and Philippines Withdrawal - 21st Mar 18
Larry Kudlow vs. Vladimir Putin on Gold - 21st Mar 18
Trump Builds Economy and War Machine - 21st Mar 18
This Stock Market "Illusion" Can Destroy Once-Vibrant Portfolios - 21st Mar 18
Gold Short-term Pull Back in Progress - 20th Mar 18
Stocks Appear to be Under Pressure - 20th Mar 18
Time To Eliminate Your Wall Street Tax? - 20th Mar 18
The Beast from the East Snow, UK Roads Driving Car Accidents - 20th Mar 18
Can Bitcoin Price Rally Continue After Paypal Fake FUD Attack? - 19th Mar 18
2018 Reversal Dates for Gold, Silver and Gold Stocks - 19th Mar 18
This Tech Breakthrough Could Save The Electric Car Market - 19th Mar 18
Stocks Set to Open Lower, Should You Buy? - 19th Mar 18
The Wealth Machine That Rising Interest Rates Create Conflict With The National Debt - 19th Mar 18
Affiliate Marketing Tips and Network Recommendations - 19th Mar 18
Do Stocks Bull Market Tops Need Breadth Divergences? - 19th Mar 18
Doritos Instant £500 Win! Why Super Market Shelves are Empty - 19th Mar 18
Bonds, Inflation & the Market Amigos - 19th Mar 18
US Housing Real Estate Market and Banking Pressures Are Building - 19th Mar 18
Stock Market Bulls Last Stand? - 18th Mar 18
Putin Flip-Flops Like A Drunken Whore On Bitcoin Cryptocurrency Legalization - 18th Mar 18
How to Legally Manipulate Interest Rates - 18th Mar 18
Return of Stock Market Volatility Amidst Political Chaos and Uncertain Economy - 18th Mar 18
Bitcoin Price Trend Forecast, Paypal FUD Fake Cryptocurrency Warning - 17th Mar 18
Strong Earnings Growth is Bullish for Stocks - 17th Mar 18
The War on the Post Office - 17th Mar 18
GDX Gold Mining Stocks Fundamentals - 16th Mar 18
Nationalism, Not the Russians, got Trump Elected - 16th Mar 18
Has Bitcoin Bought It? - 16th Mar 18
Crude Oil Price – Who Wants the Triangle? - 16th Mar 18
PayPal Cease Trading Crypto Currency Bitcoin Warning Email Sophisticated Fake Scam? - 16th Mar 18
EUR/USD – Something Old, Something New and… Something Blue - 16th Mar 18

Market Oracle FREE Newsletter

Urgent Stock Market Message

Bullish, But Nervous? Here's how to protect your Stock Profits - and make more...

Portfolio / Options & Warrants Dec 30, 2010 - 05:53 AM GMT

By: Money_Morning


Best Financial Markets Analysis ArticleBy Larry D. Spears writes: Since bottoming out in early July, the stock market has turned in a brilliant performance, giving many investors Christmas stockings bulging with profits. However, it also has left a lot of investors nervous - though not the ones that know how to use options.

Will a strong January Effect extend the market advance, which has seen the Standard & Poor's 500 Index climb 22.97% from its July 2 low of 1022.58?

Or, will further downgrades of European debt, high unemployment, a dismal housing market and other negative factors finally stall the rally?

Although many analysts are offering projections, no one can say for sure - but fortunately, you don't really have to know. By adeptly using options, you can both fully protect your existing profits if the bull stumbles, and play for more if it charges ahead in the New Year.

And, thanks to a holiday-related drop in market volatility over the past couple of weeks, you can do so at a very reasonable price. To verify that, you need only look at the Chicago Board Option Exchange's (CBOE) S&P 500 Volatility Index (VIX), which closed Dec. 23 at 15.45 - its lowest level since just before the market's top last April.

Normally, when one thinks of using options to lock in profits, the strategy that comes to mind is the purchase of a protective put, which will pay off should the price of the underlying asset fall sharply. However, a better approach - given current market conditions, volatility levels, and the time of year - is an outright call option "substitution."

It's a very simple strategy: You merely sell the stock on which you have profits you want to protect and buy an equivalent number of at-the-money call options on the same stock - at the money meaning the striking prices of the options are the ones closest to the actual trading price of the underlying security.

Here's an example.

Let's say you purchased 500 shares of CenturyLink, Inc. (NYSE: CTL) last July, shortly after it bounced off its 52-week low in sync with the broader market. You paid $33.50 per share, then watched the stock ride the autumn rally higher to a close of $46.40 on Dec. 27 (collecting a couple of healthy 72.5-cent-a-share quarterly dividends along the way). You thus have a profit on the CTL stock of $12.90 per share (or $6,450 on the full position) - a profit you're worried about losing should the market correct early in the New Year.

Here's how you could use a call option substitution to protect yourself, while saving the opportunity to add more gains should the stock price continue to rise.

You would simply sell your 500 shares of CTL stock, but maintain your long bullish stance by "substituting" the purchase of five at-the-money CTL February $46.00 call options (each call option controls 100 shares of CTL stock). The key features of the play are:

•By selling 500 shares of CTL at $46.40, you free up $23,200 ($46.40 x 500 = $23,200) in cash that you can use for other purposes (a benefit you wouldn't get with the purchase of a protective put).
•You capture the $6,450 in profit you currently have, ensuring you'll never give it back - no matter what the market or stock price does.
•With the February $46.00 calls carrying a premium of $1.40 (as they did on Dec. 28), you'd pay $700 ($1.40 x 100 x 5 = $700) of your profit to buy them and thus maintain your long position by controlling 500 shares of CTL stock.
•If the market does correct and CenturyLink stock falls back below $46.00 a share, you lose the $700 you paid for the calls - but that's all. You can't lose more, no matter what happens. (Note: If you dislike the notion of losing the $700 in call premiums should the stock pull back, simply think of it as equivalent to putting in a stop-loss order on CTL at a price of $45.00 per share. If you simply held the stock with that stop - a very tight one by usual standards - you'd lose the same $700 from current prices if it were triggered.)

•If the market doesn't correct, you begin adding to your already locked-in profits as soon as CTL stock moves higher. Because the $46.00 calls are already in the money, the premium will increase steadily - though initially not on a cent-for-cent basis - as the stock price rises. And, if you hold the calls until the expiration date - Feb. 18, 2011 in this instance - you'll capture additional dollar-for-dollar profits at any CTL stock price above $47.40 (the $46.00 striking price plus the $1.40 premium paid).
•Because CTL will report its fourth-quarter results before the options expire, you'll have full opportunity to capture any bounce in the stock price as a result of a positive surprise. But again, you can't lose the gains you already have should earnings disappoint.
•Should CTL stock trade relatively flat in January and early February, staying above $46.00 a share, you can re-examine the prospects for the company and, if you like them, exercise the call options. That would let you repurchase the actual stock in time to collect the next 72.5-cent quarterly dividend, adding another $362.50 to your gains on the 500 shares.
•Since it will most likely be the first week of January 2011 before you can execute this trade, you won't have to pay taxes on the stock profits you take for up to 15 months, giving you plenty of time to offset them.
This strategy will work for any long position on which you currently have profits (so long as options are traded on the stock), locking in your gains but letting you play for any continued advance.

Do be careful in choosing the expiration date of the call options you substitute, making sure they extend far enough out to benefit from the next quarterly earnings report and, if the dividend is worth considering, in ample time to qualify for that payout.

Source :

Money Morning/The Money Map Report

©2010 Monument Street Publishing. All Rights Reserved. Protected by copyright laws of the United States and international treaties. Any reproduction, copying, or redistribution (electronic or otherwise, including on the world wide web), of content from this website, in whole or in part, is strictly prohibited without the express written permission of Monument Street Publishing. 105 West Monument Street, Baltimore MD 21201, Email:

Disclaimer: Nothing published by Money Morning should be considered personalized investment advice. Although our employees may answer your general customer service questions, they are not licensed under securities laws to address your particular investment situation. No communication by our employees to you should be deemed as personalized investent advice. We expressly forbid our writers from having a financial interest in any security recommended to our readers. All of our employees and agents must wait 24 hours after on-line publication, or 72 hours after the mailing of printed-only publication prior to following an initial recommendation. Any investments recommended by Money Morning should be made only after consulting with your investment advisor and only after reviewing the prospectus or financial statements of the company.

Money Morning Archive

© 2005-2018 - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.

Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules